It is a pleasure to serve under your chairmanship this morning, Mr Sheridan. As was said earlier, we Scots always bring a ray of sunshine to the Committee proceedings.
According to the background notes and what the Government tell us, the clause implements article 13.1 of the principal VAT directive by inserting a new section 41A into the Value Added Tax Act 1994. It provides that public bodies, Departments and local authorities should not be taxed when making supplies of goods of services, unless those supplies arise out of what are described as “Annex 1” activities or the relief from VAT would cause
“a significant distortion of competition.”
The Government advise, in the background note, that:
“This provision puts the effective implementation of the article beyond doubt”.
I understand from public bodies that in practice they should see no change in the existing tax treatment as a result of the legislative changes, because previously HMRC had given effect to the article by interpreting existing legislation in a way that achieved what was to be a correct result for the article’s purposes. However, given that some recent litigation cast doubt upon that approach, suggesting that it amounted to effective implementation of article 51, there was a need to introduce the clause. In essence, the clause is a technical implementation of EU law, which I understand is already implemented in practice.
There is one particular issue that I want to raise about the clause. Discussion of the clause gives me an opportunity to put questions about the VAT treatment of something that is of particular relevance at the moment in Scotland. I hope that the Minister will be able to answer my questions.
The Minister will be very aware of the discussions that are ongoing with the Scottish Government in relation to the treatment of the future Scottish police force, a force that will cover the whole of Scotland and that is to be set up following changes in legislation in Scotland. There will also be a single Scottish fire and rescue service. I am aware that there are ongoing discussions about the treatment for VAT purposes of the new Scottish police force.
I have a number of questions. The Minister has talked about several things this morning: loopholes; anomalies; tidying things up; making sure there is equal treatment; and making sure that nobody is disadvantaged. I would like him to clarify an issue about which concerns have been raised. It is whether the new Scottish police force is to continue to be VAT-rated and will have to pay VAT. If so, would it be the only police force in the UK to which that particular tax treatment would apply?
The reason why I am asking that question is that I have a copy of a letter sent by the Cabinet Secretary for Justice in the Scottish Government to the Convener of the Justice Committee in the Scottish Parliament. As I understand it, this issue of VAT treatment will come up at stage 3 of the Police and Fire Reform (Scotland) Bill, in the not-too-distant future. I quote from the letter, because the Cabinet Secretary for Justice says:
“the Treasury’s decision not to agree to the proposed Scottish Police Authority (SPA) and Scottish Fire and Rescue Service (SFRS) being able to reclaim VAT…will mean that the SPA and the SFRS will be the only police and fire and rescue authorities in the UK that are unable to recover VAT.”
I disagree with the Cabinet Secretary for Justice in Scotland on many issues. However, it is very important that we get the facts on the record here. He goes on to suggest that the Treasury’s treatment of the proposed police service and the proposed fire and rescue service in Scotland is entirely different to its treatment of the new academy schools in England. He says that those schools are
“fully funded by the UK Government yet the Treasury created a new provision to enable them to recover VAT.”
Again, it would be very helpful if the Minister could address that issue.
I understand that there have been various discussions between officials in the Scottish Government and the Treasury, and that there were proposals potentially to include a provision in the Bill in Scotland that would make totally explicit the funding link between the local authorities in Scotland and the new police force, which I understand to be part of the issue. The Scottish Government believe that that provision would meet the Treasury’s policy for securing what is described as section 33 status. I believe that there was a letter that set that out, and that there have been some amendments on the subject.
It would be helpful if we could have clarity, because this is a situation where everyone cannot be right. Is the Cabinet Secretary for Justice in Scotland correct in what he is saying? Is the Minister correct in what appears to be his understanding of the situation? It would be very helpful if the Minister could say whether there is a loophole here and, if there is, how it could be addressed. Is there an opportunity to address it through primary legislation in the Bill? What discussions have taken place on the draft changes that I understand have been shared with the Treasury in relation to the upcoming Bill in Scotland? I appreciate that the clause cannot fix that, but given that the clause is about the treatment of public bodies for VAT purposes, it is important to consider the matter.
Will the Minister say whether, as a result of the new Scottish police force, and the way that Scottish police and fire and rescue services will be delivered in Scotland, there is likely to be an increase in revenue to the Treasury? Under the changes, we would move from having geographically-based police forces and the Scottish Police Services Authority to having a single force, and away from having geographically-based fire and rescue services to having a single force. Will the Treasury accrue more or less VAT revenue if no changes are made?
Clause 197 confirms that public bodies, such as Departments and local authorities, that engage in activities as public authorities are not taxed unless that would distort competition with businesses. I am grateful to the hon. Member for Kilmarnock and Loudoun for setting out much of the detail, but let me say a word or two about the clause before dealing with her questions.
The provisions of the clause are consistent with EU law and the way that successive Governments have applied VAT to public bodies. The clause makes the position clear in law, thereby dealing with comments made by the courts. The public bodies involved should not see any change in practice. VAT is a broad-based tax that is charged on goods and services supplied for consideration and by way of business. For such purposes, the word “business” is not a test of intention, but one of regularity and continuity of scale. Such business activities do not include the statutory activities of public bodies funded through grant in aid or from taxation, such as activities that relate to health care, defence and law and order.
Activities for which a charge is made are in theory within the scope of taxation. Hon. Members will understand that, if applied too rigidly, the provision could have an undesirable outcome. Thus the practice has been that where a public body supplies a service under a statutory regime that is unique to it, that activity is outside the scope of VAT, unless competition with business would be distorted. For example, issuing a passport for a fee is undeniably a service, but it is only done by Government under a clear legislative process. We do not tax any such service as there is no competition with the private sector. By contrast, where an activity is opened up to both the public and private sectors, we would expect it to be taxed uniformly so that businesses are not disadvantaged.
What if a social enterprise was set up with Government support—for example, through the Cabinet Office? When it comes to considering whether it could compete against the private sector for outsourced services, what would be the position of that body for taxation purposes?
I am sure that the hon. Lady understands that this is a complex area. We always seek to remove any advantages that one type of entity has over the other; that has to be the objective. In ongoing discussions, one issue with the VAT system that we face is how it operates for hospices, which is often a difficulty, because they provide an exempt service and cannot recover the VAT that they incur. It is difficult to find a way around that problem through the use of the tax system; it then becomes a funding issue. Funding formulae for public authorities tend to take into account VAT issues, but the broad point is that a social enterprise will be subject to the same law as others—its competitors—and that is the right approach.
Does the clause have any implications for gym membership fees? There is direct competition between local authorities and private operators in relation to leisure centres and gym membership. Private gyms are involved in a big campaign to exempt their membership fees from VAT, so that they can compete with local authorities.
It may come as a shock to the Committee that gym membership fees are not my specialist subject, but the clause has no implications for them. As I have said, the courts have expressed doubts about whether UK legislation explicitly reproduces the EU rules, even though our policies are fully consistent with those rules. The clause therefore amends the Value Added Tax Act 1994 to provide certainty for public bodies and protection for businesses that might compete with them.
The hon. Member for Kilmarnock and Loudoun asked about the Scottish police force. The Scottish Government took the decision to fund the Scottish police force from central taxation. That does not conform, and is not consistent, with other police authorities, which are funded from local taxation. The Scottish Government took that decision in the knowledge that VAT relief would be lost, and they were aware of the consequences. However, I understand that the Scottish Government believe that they will make a significant saving of, if my memory serves me correctly, £15 million, which will more than outweigh the additional VAT costs. I am loth to get into too much detail on that point. Although I fully understand why the hon. Lady raised it, it is not directly relevant to the clause, which will certainly not result in any change in revenue from the Scottish police force.
Will the Minister address the fact that there may be opportunities for local authorities to provide additional revenue to the new Scottish police service, specifically for local projects? What would the VAT treatment for that funding? What is the difference between the new Scottish police force and the Police Service of Northern Ireland with regard to VAT? How will the new offices of police commissioners in England be treated for the purposes of VAT?
I am conscious that my words will be looked at very closely, so perhaps I should leave it there, but what I would say is that the Treasury is very willing to engage and work constructively with the Scottish Government to see whether the matter can be addressed. There is, however, limited flexibility, given the legislative situation and the fact that the Scottish Government decided to fund the new police force through central taxation, which is different from how other police authorities are funded. We are happy to engage in dialogue with the Scottish Government to ensure that we get the best possible solution. I want to underline, however, that there are significant constraints, of which the Scottish Government have long been aware. With those remarks, I hope that clause 197 will stand part of the Bill.